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Decomposing Supply and Demand Driven Inflation

Author

Abstract
The extent to which either supply or demand factors drive inflation has important implications for economic policy. I propose a framework to decompose inflation into supply- and demand-driven components. I generate two new data series, the supply and demand-driven contributions to personal consumption expenditures (PCE) inflation, which quantify the degree to which either demand or supply is driving inflation in a current month. The series show expected time-series patterns. The demand-driven contribution tends to decline during recessions, while the supply-driven contribution tends to follow food and energy prices. Monetary policy tightening acts to reduce the demand-driven contribution of inflation. Oil-supply shocks act to increase the supply driven contribution, but decrease the demand-driven contribution of inflation. The decompositions can be used to test theory or by policymakers and practitioners to track inflation drivers in real time.

Suggested Citation

  • Adam Hale Shapiro, 2022. "Decomposing Supply and Demand Driven Inflation," Working Paper Series 2022-18, Federal Reserve Bank of San Francisco.
    • Handle: RePEc:fip:fedfwp:94836
    DOI: 10.24148/wp2022-18
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    References listed on IDEAS

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    Cited by:

    1. Chang, Jui-Chuan Della & Jansen, Dennis W. & Pagliacci, Carolina, 2023. "Inflation and real GDP growth in the U.S.—Demand or supply driven?," Economics Letters, Elsevier, vol. 231(C).
    2. Galstyan, Vahagn, 2023. "Understanding the Joint Dynamics of Inflation and Wage Growth in the Euro Area," Research Technical Papers 11/RT/23, Central Bank of Ireland.
    3. Colunga L. Fernando & Torre Cepeda Leonardo, 2023. "Effects of Supply, Demand, and Labor Market Shocks in the Mexican Manufacturing Sector," Working Papers 2023-10, Banco de México.
    4. Ascari, Guido & Fosso, Luca, 2024. "The international dimension of trend inflation," Journal of International Economics, Elsevier, vol. 148(C).
    5. Wildauer, Rafael & Kohler, Karsten & Aboobaker, Adam & Guschanski, Alexander, 2023. "Energy price shocks, conflict inflation, and income distribution in a three-sector model," Energy Economics, Elsevier, vol. 127(PB).
    6. Clodomiro Ferreira & Stefano Pica, 2024. "Household perceptions of the sources of business cycle fluctuations: a tale of supply and demand," Temi di discussione (Economic working papers) 1441, Bank of Italy, Economic Research and International Relations Area.
    7. Crump, Richard K. & Eusepi, Stefano & Giannoni, Marc & Şahin, Ayşegül, 2024. "The unemployment–inflation trade-off revisited: The Phillips curve in COVID times," Journal of Monetary Economics, Elsevier, vol. 145(S).
    8. Colunga-Ramos, Luis Fernando & Cepeda, Leonardo E. Torre, 2024. "Regional supply, demand and labor shocks on the manufacturing sector during COVID-19 in Mexico," Latin American Journal of Central Banking (previously Monetaria), Elsevier, vol. 5(2).
    9. Ascari, Guido & Bonam, Dennis & Smadu, Andra, 2024. "Global supply chain pressures, inflation, and implications for monetary policy," Journal of International Money and Finance, Elsevier, vol. 142(C).

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    supply and demand; inflation; decomposition;
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